Reserve Bank Of India Disappoints Industry, No Rate Cuts Now

The Reserve Bank of India (RBI) logo is pictured outside its head office in Mumbai Jan. 25, 2011. Photo: REUTERS

The Reserve Bank of India (RBI) disappointed the industry as it left the repo rate and cash reserve ratio unchanged at 8 percent and 4.75 percent, respectively, in its mid-quarter policy review Monday. The reverse repo rate at which banks lend money to the RBI also remains unchanged at 7 percent.

The Reserve Bank had front-loaded the policy rate reduction in April with a cut of 50 basis points, the RBI said in its policy statement.

Our assessment of the current growth-inflation dynamic is that there are several factors responsible for the slowdown in activity, particularly in investment, with the role of interest rates being relatively small. Consequently, further reduction in the policy interest rate at this juncture, rather than supporting growth, could exacerbate inflationary pressures, it said.

The bank has kept the marginal standing facility (MSF) rate and the bank rate unchanged at 9 percent. The banking regulator made it clear that the evolving growth-inflation dynamic would continue to influence its stance on interest rates.

The core inflation has moderated, reflecting demand conditions and lower pricing power. However, both headline and retail inflation rates are rising, which have a bearing on inflation expectations. Future actions will depend on a continuing assessment of external and domestic developments that contribute to lowering inflation risks, the RBI said.

The industry and markets were taken by surprise by the RBI's decision not to cut the key rates. Economists were expecting a cut of 25 to 50 basis points in CRR and repo rates.

The RBI clearly surprised the market by not cutting either CRR or the repo rates. However, we do think that the RBI has changed track on liquidity, i.e., it is now willing to provide more liquidity comfort to banks than before, Kumar Rachapudi, fixed income strategist for Barclay's Capital, was quoted saying by NDTV.

Finance Minister Pranab Mukherjee, who had earlier said that the RBI might cut the rates, reasoned Monday that high inflation might have prompted the banking regulator's decision.

Perhaps the inflation figures, WPI inflation in May, which was 7.56, there has been some marginal increase in CPI (Consumer Price Index) which might have weighed their decision making, he told NDTV shortly after the RBI had announced its decision.